Smith Faculty Opinion Article - November 7, 2005

The WTOs New Mission: Handmaiden to Protectionism?
By Dr. Peter Morici, Professor of International Business

As the December 13 Hong Kong ministerial approaches, the World Trade Organization is racing to cut a deal on farm subsidies and conclude the Doha Round trade negotiations. Also at stake are large cuts in tariffs on manufactures and better rules for global commerce in services.

According to the champions of free trade, these talks have the potential to unlock progress on the scale of the invention of the microprocessor, and failure could throw humanity into another Dark Ages. As I gaze at the economic landscape since the 1994 Marrakesh Agreement, it becomes apparent the WTO is not focusing on what is important and is in danger of becoming irrelevant.

The WTOs predecessor, the General Agreement on Tariffs and Trade, was established in 1947 to reduce tariffs among a small group of World War II allies with compatible legal and economic institutions for example, Japan was not admitted until 1955. Cutting tariffs imposed pain on some workers but these were calculated into concessions in ways that smoothed transitions to new opportunities in export and supporting industries. As importantly, these nations traded within the context of the Bretton Woods system of fixed exchange rates, managed by the International Monetary Fund, which did not permit wide imbalances of trade without prompt policy adjustments.

The success of multilateral trade liberalization resulted in a system that now includes virtually all nations participating in global commerce and addresses many national policies beyond tariffs, such as taxation, regional aids, health regulations, and product standards.

Since Marrakesh, China entered the WTO with 150 million underemployed peasants, without a modern system of commercial law, and with many hold-over institutions from a centrally planned economy, such as large state owned banks, that permit Beijing to channel capital into targeted industries on a massive scale. A misstep in negotiating with China can rock industries globally with a speed and force the founders of the GATT never conceived.

The failure to effectively manage the assimilation of China is undermining support for free trade in many western democracies. After all free trade may provide cheap electronics at Wal-Mart, but that is little comfort to a worker at Delphi whose wages are being cut $10 an hour.

The Bretton Woods system is gone, and nothing has replaced it. The United States, EU and increasingly Japan permit their currencies to float against one another, while China and other Asian governments flagrantly intervene in foreign exchange markets to maintain undervalued currencies, enjoy larger trade surpluses and attract jobs from the industrial heartlands of Europe and America. These policies also deprive poorer nations in Africa and elsewhere a decent shot at development.

Even if the IMF were to cite China and others for violating its norms, it can take no real action to curb their mercantilism. Yet, the WTO defers to the IMF on currency issues, and currency manipulation is not on the Doha Round agenda.

In recent years, two forces have radically altered global markets: concentration and technology as the commodity of power. Increasingly ten, five or even two companies dominate in industries such as aircraft, automobiles, software, media, and even antiques consider what eBay has done to the auction business. In this world, access to technology trumps capital for ensuring national prosperity; antitrust and competition policy and the management of foreign investors, through financial incentives and market-access regulations, become the critical levers of economic statecraft.

Consider how Japan has sustained a steel industry without an underlying resource basis and with expensive labor by permitting domestic producers to divvy up its market and export at lower prices, or how the EU Commission regulated the Boeing-McDonnell Douglas merger to neuter the competitive consequences for Airbus. Should we be surprised that China has announced it will get into to the business of reviewing mergers of foreign companies?

Consider how China is shrewdly building auto and software industries where it lacks the underlying skilled labor and supporting industries by requiring Microsoft, GM and others to train engineers and to develop local suppliers.

Currency manipulation, competition policy, and the regulation of foreign investment are the new devils workshop of trade policy but the Doha Round agenda is silent on these issues. Instead negotiations are locked in a tussle over farm subsidies, which is not likely to be resolved.

The real danger to a vibrant global economy and the relevancy of the WTO is that negotiators will paper over the agriculture issue, open up markets for manufactures and services, and leave policymakers in China and elsewhere a free hand to employ the new tools protectionism and disrupt markets on a massive scale with impunity.